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Sunday, August 26, 2012

Germany’s Growth Is Unsustainable?

Two articles have appeared recently that express concern about the health of the German economy. The first appeared in The Economist under the title:German economy: Europe’s tired engine. The author expressed concern that Germany might not be able to remain the vibrant, wealthy economy to which others could turn for assistance. This chart was provided to support that worry.

Tooze grants Germany its current reputation as an economic juggernaut with strong exports, little debt, and minuscule borrowing costs.

"But beneath the glowing headlines lies a darker story: Germany's economic position is simply unsustainable. For starters, much of its trade surplus has been earned at the expense of the corresponding current account deficits of the European countries in crisis. At the same time, this outsized surplus goes hand in hand with major imbalances within Germany's domestic economy. German businesses have invested their profits abroad, helping finance foreign imports. Meanwhile, as German money has flowed out of the country, domestic investment has languished at unprecedentedly low levels."

"Germany, like other rich, polluting, and aging countries, faces enormous long-term challenges. Its work force is shrinking, its energy sector needs to be remade, and its public infrastructure has gone too long without improvement. For all the talk of its financial strength, Germany has so far squandered the opportunity to secure long-term economic growth by addressing these challenges through badly needed domestic investments."

Germany will have to make major investments in its domestic economy at a time when the debt required to pay for those investments nearly comes free, but the country is unable to take advantage of the opportunity.

"And yet due to a 2009 constitutional amendment requiring both the federal and the state governments to maintain balanced budgets, the German public sector has denied itself the opportunity to borrow and invest. To make matters worse, rather than try to extricate itself from this self-inflicted trap, Berlin is insisting that the eurozone as a whole adopt this model, in the form of the European fiscal compact, a treaty that will mandate balanced budgets across the continent. That Germany is seeking to fashion the rest of Europe in its own image makes it all the more urgent to understand the fault lines that underlie its economic model."

Many issues have been neglected as Germany focused on its export-driven economy. General infrastructure upgrades have fallen far behind.

"Since the millennium, net investment in Germany as a share of GDP has been lower than at any time in recorded history, outside the disastrous years of the Great Depression. The German corporate sector has invested its more than ample profits, but it has done so outside the country. The effect of this flight of private money has been compounded by Berlin's campaign to enforce balanced budgets, which has prevented meaningful investment on the part of the public sector."

Its once vaunted universities attain only mediocre rankings today, and its spending on education is below the OECD (wealthy countries) average.

Germany has a declining and aging workforce which will require greater dependence on immigrants, yet it has always had difficulty in dealing with its non-German population.

"Berlin has stepped up its efforts to recruit foreign workers. But the large-scale guest-worker programs of the 1960s and early 1970s, which brought immigrants in droves from Turkey and Europe's Mediterranean periphery, carry a mixed legacy. Already, 35 percent of new children in Germany are born to immigrants, placing strains on an educational system that still has no coherent strategy for teaching German as a second language, let alone maximizing the potential of all students. Despite considerable attempts to integrate these immigrants, Germany remains uneasy about multiculturalism."

A worker shortage could be alleviated by encouraging more women to join the labor force, but, incredibly, conservative politicians have made a habit of discouraging women from working outside the home.

"Another way to bolster the German work force would be to enact child-care policies that would make it easier for women to raise children while pursuing careers. A major obstacle to such policies has been the conservative political culture of the Christian Democratic Union (CDU), Germany's dominant political party for much of the last 60 years, which tends to disapprove of mothers working outside the home....Despite persisting and fierce resistance from the conservative wing of her party, Merkel has sought to continue to bring mothers into the work force by building a comprehensive, high-quality child-care system that will cover all children up to the age of six. Between 2006 and 2011, Germany created 230,000 new places for preschool students, and local governments now face the challenge of creating a further 260,000 places by 2013. The bill for this project will come to billions of euros."

Germany has embarked on an ambitious, but risky, plan to increase its utilization of renewable energy as it quickly phases out nuclear sources.

"Even more imposing a challenge is Merkel's proposal for an Energiewende, or energy transformation. Following Japan's Fukushima nuclear disaster in 2011, Germany resolved to close all its nuclear plants by 2022. Rather than replace them with cheap but dirty coal-fired plants, Berlin envisions a huge investment in green technology, aiming to cover 35 percent of the country's energy needs with renewable energy by 2020....This energy transformation will likely end up costing over 200 billion euros."

Germany has also built up a debt to its workers that will likely have to be repaid.

"Between 2000 and 2009, while corporate profits soared, exports boomed, and capital fled the country, real wages in Germany fell by one percent. According to the OECD, over the last 20 years, income inequality in Germany, as measured by the Gini coefficient, has risen only fractionally less than in the United States and twice as rapidly as the OECD average. How long can German employers expect their workers, faced with creeping tax increases and budget cuts, to continue to consent to this inequitable tradeoff?"

Given that Germany has essentially forbidden itself to borrow money and increase its debt, how is this investment going to occur?

"With new borrowing frozen, Germany projects that its debt-to-GDP ratio will steadily decline. Yet since revenue from taxes on corporate and household income has been dropping as a share of GDP in Germany, as in much of the rest of the developed world, the government's budget will be much smaller. If, faced with this squeeze, Berlin is to make good on its promises of investment in energy infrastructure, preschools, universities, and research and development, it will have to engage in relentless cutting of every euro of nonproductive public spending -- a painful and politically unpopular proposition. German leaders must therefore be hoping that their strategy of shrinking and rebalancing the state will trigger a dramatic revival of private investment. What is remarkable about this model, which Merkel is now advocating not just for Germany but also for the rest of Europe, is how un-European it seems. The scenario sounds awfully like a 1980s-era supply-side utopia."

"Even if Merkel's government gets exactly what it wants -- massive investment from the private sector alongside public investments financed without any increase in public borrowing -- the pain will be real. The government will be forced to pay for these investments by raising taxes, clawing back exemptions, and, above all, charging consumers. Already, because of steep energy charges, Germans pay more than three times as much for electricity as Americans, and those costs will likely rise by at least 50 percent over the course of the Energiewende."

What does Tooze recommend for Germany to do to correct all the problems he has enumerated?

"The best chance for Germany to emerge from the current impasse with a strategy for growth -- for both itself and the rest of Europe -- would be for it to treat austerity not as a permanent economic policy but as a form of shock therapy. After the market regains confidence in the euro, after German states and the rest of Europe pay down some of their debts, and after several years of fiscal pain, low investment, and low growth, Berlin can hopefully reconsider its course."

That seems a rather optimistic note to end on. Given the rate at which Europe’s economies are plummeting in the chart above, it would seem that "several years of fiscal pain" are no longer available.

ADAM TOOZE is Professor of History, a Fellow at the MacMillan Center for International and Area Studies, and Co-Director of International Security Studies at Yale University.

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About Me

Hi, my name is Rich Couch. I spent my first career as a physical scientist. Now that I am retired I have chosen to go in another direction. I have had a lifelong love of books and an urge to write. Since I am not a story teller and I am way too old to start a new career I have found an outlet in writing essays combining reviews and my opinions of books and articles on politics and current affairs. My hope is that others will find what I have produced interesting and informative--and well written.